The MD5 option in the default OpenSSH installation (emerge openssh) is set up to be 'NO' by default. In order for OpenSSH to work with Shadow Passwords the MD5 option needs to be set as 'ON'. The problem is easily rectified with a simple switch in the "configure" script for OpenSSH, "--with-md5". -Ian S. (Oscarian)
revision masked in portage, please test, I'll unmask after I get some affirmative test results.